Impact of Lease Terms

Impact of Lease Terms on Property ValueWayne D'Amico, CCIM

After ten plus years in real estate with an ear to the successful in my field, I have learned to never underestimate the impact of lease negotiations on the value of an investment property. The specific terms including rental rates, triple net schedules, term, options and use all impact the marketability and inherent value of an investment.

A case in point most recently came to light when a client, to whom I sold a building called for an appraisal of that same property. We negotiated the purchase while he was a tenant in the building. A year or so prior to the sale very favorable lease terms were negotiated with the then owner. The favorable rental rates and options along with an attornment protecting him against any ousting by the mortgagee, positioned him to buy right. Because he had such a strong leasehold interest at a below market rate, the value of the building was lower than if the property appraised at higher market rents with reasonable absorption.

Over the next three years my client, a medical professional diversified the use of the property and his practice to include offering shared facilities to complimentary practitioners with each one participating in the costs of operating the facility. The lease arrangements with the other practitioners not only relieved some of the burden of supporting the office overhead, but in turn created a cash flow scenario.

When analyzing this scenario, a survey of market rental terms for similar properties was performed. The information in the survey verified that the subject lease terms were not only in line with the market, but were fair enough to secure 100% occupancy. When the historical and current income & expense information were entered into an investment proforma based upon the same standard appraisal practice principals used to purchase the property, the property had increased in value over the purchase price by 100% in three years.

In today's economy and real estate investment climate, a good investment is hard to come buy, but if you have the interest and creativity there are opportunities. The secret is to consult with the trained ear that can help you hear them knock.